Oil Price to Remain Rangebound, Say BofA

opec impact exchange rates 1

Oil is to stay in its current range between 40 and 60 Dollars a barrel, according to research from Bank of America Merril Lynch (BOFAML).

The OPEC cartel is unlikely to cut supply any further to enhance prices - although it is also likely to keep current agreements in place.

US shale producers have reduced their breakeven prices through improvements in technology and "balance sheets" to only 40-60 Dollars per barrel.

This means they are more likely to survive any further attempts by OPEC to price-cut them out of business, compared to when OPEC did nothing to stem the drop in prices in 2015/16

"With US shale oil breakevens in a $40-60/bbl range & swing capacity of 2mn b/d in this range, oil prices should remain steady," said BoFA's Energy Team.

The forecasts assume, "steady global oil demand growth, some continuation of the OPEC deal, and no large unexpected supply losses," said BofA.

Data from the oil futures market indicates a bias exists for the price of crude to rise due to falling supply, indicating that OPEC's strategy of cutting supply has worked.

The oil futures market is said to be in 'Backwardation' meaning future prices are lower than current prices - Backwardation is normally a bullish sign for prices, and so suggests more upside for oil.

"Some petroleum product markets are showing firm backwardation, and stocks are starting to normalize. So OPEC's strategy to "keep calm and carry on" is finally starting to work," said BofA. 

"However, any move by the cartel to cut production further and accelerate the rebalancing process will likely lead to a permanent market share loss against US producers," added the bank.

"Oil prices are poised to trade around $50/bbl for the next six quarters," concluded Bank of America.

Tough Choice if Demand Collapses

The bullish outlook rests on the expectation that the demand for oil continues as it has done before.

A diruption is supply could push the price higher:

"Geopolitics in Venezuela, Nigeria, or Libya could easily push us out of this range," says BofA, adding, "Yet, inventories are still relatively high and provide a buffer against mid-sized unexpected supply disruptions."

A fall in demand would have the opposite effect and push oil below its range lows of 40 dollars a barrel.

This is what happened in 1998, 2001, and 2008, but whilst OPEC came to the rescue back then, by cutting oil production, what would hapoen now if the same thing happened again?

"In the past twenty years, OPEC has cut supply four times to rebalance the global oil market. OPEC successfully created a floor to oil prices in the first three instances when it cut output and was able to regain market share at a later date," said BoFA.

In order to put US Shale producers out of business this time around OPEC would have to push the price of oil down to below 30 Dollars a barrel which seems highly unlikely.

"US shale oil technology is a game changer. It is extremely sensitive to prices, and shale output tracks WTI with a 9 to 12 month lag. So just as soon as OPEC cuts have started to impact the term structure of oil prices, US shale production has taken off in a very meaningful way. Tit-for-tat," said BofA.

Shale producers have, "repaired their balance sheets," said BofA, making a special effort to reduce dependence on leverage in the past 18 months.

This combination of improving technology and balance sheet repair, "is very powerful," and means American shale producers are now more able to remain solvent with financial restrictions.

"So next time US shale output has to swing down on a global oil demand collapse, prices may have to drop sharply to $30/bbl or below," to put the US Shale industry out of business, saud BofA.